Can someone please help explain this question?
six-month forward rates (presented on an annualized, bond-equivalent basis) were calculated from the yield curve.
1f0 0.50% 1f1 0.70% 1f2 1.00% 1f3 1.50% 1f4 2.20% 1f5 3.00% 1f6 4.00%
Calculate the 3-year spot rate:
A. 0.74%. B. 1.48%. C. 2.06%.
Answer = B
Use only 1f0 to 1f5, i.e. investing for 6 months and then rolling over into new 6 month investment. Divide each rate by 2 and add 1. Multiply all together, raise to power of (1/6), subtract 1, and then multiply by 2.
2*{(1+0.005/2) * (1+0.007/2) *… (1+0.03/2)]^ (1/6) -1} = 0.0148